Innovation in healthcare contracting models. Where are we heading?


By: Diego Rosselli
Associate Professor of Health Economics
Pontificia Universidad Javeriana, Medical School
CEO NeuroEconomix
Chair ISPOR Colombia Chapter
Chair ISPOR Latin America Consortium
Bogota, Colombia

As every student in a health economics introductory course learns in the first few days, healthcare provision is a very atypical market. Demand for healthcare behaves in all sorts of particular ways. To quote the Economics Nobel prize winner Kenneth Arrow in his 1963 seminal paper: “The most obvious distinguishing characteristics of an individual’s demand for medical services is that it is not steady in origin as, for example, for food or clothing, but irregular and unpredictable.” (1)

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Unpredictability is just part of the problem. Other causes for “market failures” include information asymmetry (patients are largely misinformed), and there are a large array of perverse incentives. Powerful companies benefit more from sick persons than from healthy individuals. All these reasons, added to an ageing population and an epidemic growth of chronic diseases, result in an apparently uncontrollable increase in health expenditure.


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Why are new contracting models needed?


A couple of relatively simple methods of payment for healthcare provision have been used for centuries, with out-of-pocket payment as the first and only option. Charity funds came to replace the needs of the less well-off, but even that was not enough to ensure access to new and more expensive surgical procedures or, indeed, expensive or prolonged medical treatments. Some sort of medical insurance became the only option, sometimes provided by the state and financed with general taxation, sometimes relying on individual fees paid by employees or employers to private corporations.


Several problems were soon evident: the risk of disease is not equal throughout the population, and tends to concentrate on the elderly and on the more socially vulnerable. Equity became relevant, and risk-adjustments needed to be implemented. Setting aside the issues of how to finance the health system (through general taxation, or through a fixed proportion of each workers salary, for example), there was the problem of how to pay health providers.


Paying a fixed monthly salary, perhaps the easiest from an administrative point of view, has several advantages: a single accountant can handle the payments of hundreds of employees and predicting the workforce budget is easy. But fixed salaries tend to promote inefficiency at work. Receiving a fixed payment for whatever amount of work you do is not a good incentive for productivity or for innovation. Fee-for-service, on the other hand, has been blamed as one of the main causes of the ever-growing cost of US healthcare. It is an incentive to provide more than necessary; to waste resources. Quantity tends to dominate over quality of service.


Capitation, when first implemented widely by the British NHS, was quite innovative. Risk, inherent to the health insurer, was somehow shared with the health provider. It worked well, except for the two extremes: if physicians had a young and healthy population, they could improve their benefits, but just a handful of complicated patients could generate for them a larger than appropriate workload.


Paying a fixed amount to cover a certain well-defined type of procedure or medical condition, the principle subjacent to DRGs (diagnosis-related groups), was also considered innovative a few decades ago. This way, providers (at least in theory) have an incentive to increase efficiency and limit the amount of resources spent. Quality needs to be closely audited to ensure that all the required interventions are actually provided to each patient. And a further problem is the heterogeneity of patients and of their medical conditions. Again, risk-adjustment was needed to compensate for the most complicated patients.


In summary, the perfect way to reimburse healthcare services perhaps does not exist. Innovative adjustments are mandatory. Risk sharing schemes, in which different stakeholders (ideally all stakeholders) are involved makes clear economic sense. Everyone should be in the lookout for modifiable risk factors, for early detection of potentially dangerous or costly adverse events, and for good standards of medical attention. Quality should be a win-win option for all.


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Pharmaceutical companies, which by nature tend to foster innovation, in different parts of the world have applied pay-for-performance schemes where their products are reimbursed only if patients achieve a certain goal; cancer remission, for example, or improvement in a certain rheumatoid arthritis quality of life score. Performance might refer not only to goals attained but to well-followed processes. A provider could receive an incentive to ensure the implementation of clinical practice guidelines.


Other risk-sharing models might include a certain monetary cap per patient, above which the manufacturer provides any further medication needed. Hemophilia is an example of a condition were a singled complicated patient might disrupt the budget of a medium size insurer. Financial uncertainty is not the only worry; real world effectiveness of expensive new drugs, particularly in rare diseases or in oncology, might be a barrier to access. Pharmaceuticals have offered a close follow-up and a careful registry of these patients, to guarantee that clinically significant predetermined medical outcomes are attained.


Two conditions have been well established as a prerequisite for any of these innovative or risk sharing payment schemes. The first one is good information. Electronic clinical records and ever more reliable health information systems have been keeping up to this challenge. Confidentiality issues have been confronted and always need to be kept in mind.


The other mandatory condition is mutual trust. This is sometimes difficult to attain in a system where patients do not trust their doctors, these do not trust their payers, and nobody trusts the government (not to mention the pharmaceutical industry). The idea behind any form of contracting, and even more so in these innovative schemes, is to not only to assign but to share responsibilities in patient care. And trust is something that needs to be built up along the years.


Are we up to this challenge?


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  1. Arrow K. Uncertainty and the welfare economics of medical care. Am Econ Rev. 1963;53(5):941-73.



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